Financial accounting icab chapter 4 reporting financial performance

© The Institute of Chartered Accountants in England and Wales, March 2009 119
Contents
Introduction
Examination context
Topic List
1 BAS 8 Accounting Policies, Changes in Accounting Estimates and
Errors
2 Accounting policies
3 Changes in accounting policies
4 Changes in accounting estimates
5 Prior period errors
6 Impracticability
7 BFRS 5 and discontinued operations
8 BAS 32 Financial Instruments: Presentation
Summary and Self-test
Technical reference
Answers to Self-test
Answers to Interactive question
chapter 4
Reporting financial
performance

Financial accounting
120 © The Institute of Chartered Accountants in England and Wales, March 2009
Introduction
Learning objectives Tick of
Understand the purpose and principles underlying BAS 8 Accounting Policies, Changes in
Accounting Estimates and Errors
Understand how accounting policies are selected and applied
Apply accounting requirements for:
– Changes in accounting policies
– Changes in accounting estimates
– Prior period errors
Disclose the results of a discontinued operation in accordance with BFRS 5 Non-current Assets
Held for Sale and Discontinued Operations
Classify financial instruments in accordance with BAS 32 Financial Instruments: Presentation as:
– Financial assets
– Financial liabilities
– Equity instruments
Prepare simple extracts from financial statements in accordance with Companies Act and
BFRS
Specific syllabus references for this chapter are: 2d.
Practical significance
Shareholders are interested in the future performance of the business in which they have invested. The
difficulty they have is in obtaining reliable information. It could be argued that a profit forecast would be the
most relevant information to a shareholder in this situation due to its predictive nature but this will often
be unreliable.
The compromise is to present historic information in a way that enables the user to identify the recurring
trend in the profits of the entity's continuing activities. This is achieved by BFRS 5 Non-current Assets Held for
Sale and Discontinued Operations as it requires the results of activities which will not be continued into the
future to be shown separately.
It is also important that financial information is presented in such a way that it is not misleading. This could
happen through an inadvertent lack of consistency or it could arise as a result of deliberate manipulation.
BAS 8 Accounting Policies, Changes in Accounting Estimates and Errors addresses this issue by restricting the
circumstances in which accounting policies can be changed, for example, it is not possible to change the
policy to achieve a particular accounting outcome.
BAS 32 Financial Instruments: Presentation also addresses the issue of consistency in the guidance it provides
on the classification of financial instruments. Under BAS 32 financial instruments are classified according to
their substance, with the related finance costs to match, either as debt or equity.
Stop and think
Separate disclosure of discontinued operations enables the user to assess the impact of this on current and
future results. Can you think of any other ways that historical information can be used predictively?

REPORTING FINANCIAL PERFORMANCE
© The Institute of Chartered Accountants in England and Wales, March 2009g 121
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Working context
You are likely to come across accounting policies in your work, particularly in the context of the audit
engagement. For example, in the audit of non-current assets you would be expected to consider whether
the accounting policy:
Is appropriate for the type of asset
Has been applied consistently
Has been applied correctly
Has been adequately disclosed
Many of you may also have been involved in the audit of inventories. Again here, the accounting policy
adopted by the company is a key consideration.
Syllabus links
In the Accounting paper you will have looked briefly at BAS 8 in the context of preparing company
accounts. In this paper those basic principles are developed. A detailed understanding of this standard will
be assumed in the Financial & Corporate Reporting paper.
Both BFRS 5 and BAS 32 are introduced at this level. The more complex aspects of these standards will be
covered in Financial & Corporate Reporting.

Examination context
Exam requirements
The topics covered in this chapter are unlikely to be the main focus of an individual written test question
but they could be examined in combination with a number of other matters or as part of a mixed topic
question. For example, changes in accounting estimates could be examined as part of a question on non-
current assets. Prior period adjustments or an analysis of discontinued operations could be included in a
question where you are asked to draft financial statements. These topics could also feature in the short-
form question section of the paper.
In the examination, candidates may be required to:
Prepare financial statements or extracts including adjustments for:
– Changes in accounting policies
– Changes in accounting estimates
– Prior period adjustments
Identify the circumstances in which an operation would meet the BFRS 5 definition of a discontinued
operation.
Prepare financial statements or extracts including simple financial instruments.

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1 BAS 8 Accounting Policies, Changes in Accounting
Estimates and Errors
Section overview
BAS 8 is intended to enhance:
– Relevance
– Reliability
– Comparability.
1.1 Introduction
The objective of BAS 8 Accounting Policies, Changes in Accounting Estimates and Errors is to prescribe the
criteria for selecting and changing accounting policies, together with the accounting treatment and
disclosure of changes in accounting policies, changes in accounting estimates and correction of error. This
enhances relevance, reliability and comparability. BAS 8 achieves this objective by ensuring that:
Information is available about the accounting policies adopted by different entities.
Different entities adopt a common approach to the distinction between a change in accounting policy
and a change in an accounting estimate.
The scope for accounting policy changes is constrained.
Changes in accounting policies, changes in accounting estimates and corrections of errors are dealt
with in a comparable manner by different entities.
Section overview
Management is responsible for selecting accounting policies which are relevant, reliable and
consistent.
2.1 Selecting accounting policies
Definition
Accounting policies: The specific principles, bases, conventions, rules and practices applied by an entity in
preparing and presenting financial statements.
Accounting policies are normally developed by reference to the applicable BFRS or Interpretation
together with any relevant Implementation Guidance issued by the IASB. The exception to this is where the
effect of applying the accounting policy set out in the BFRS is immaterial.
Where there is no applicable BFRS or Interpretation management should use its judgement in developing an
accounting policy ensuring that the resulting information is relevant and reliable. In practical terms
management should refer to:
The requirements and guidance in BFRS/Interpretations dealing with similar and related issues.
The basic principles set down in the Framework, for example, the recognition criteria and measurement
concepts for assets, liabilities and expenses.

Management may also consider the most recent pronouncements of other standard setting bodies that use
a similar conceptual framework to develop standards, other accounting literature and accepted industry
practices if these do not conflict with the sources above.
2.2 Consistency of accounting policies
Once selected, accounting policies should be applied consistently for similar transactions, other events
and conditions. The exception to this is where a BFRS requires or allows categorisation of items where
different policies may be applied to each category.
3 Changes in accounting policies
Section overview
A change in accounting policy must be applied retrospectively.
3.1 Introduction
The same accounting policies are usually adopted from period to period, to enhance comparability thereby
allowing users to analyse trends over time in profit, cash flows and financial position. Changes in
accounting policy will therefore be rare and should only be made if the change
Is required by a BAS or a BFRS (or an Interpretation of a BAS or BFRS)
Will result in a more appropriate presentation of events or transactions in the financial
statements of the entity (a voluntary change).
The standard highlights two types of event which do not constitute changes in accounting policy.
Adopting an accounting policy for a new type of transaction or event not dealt with previously by
the entity.
Adopting a new accounting policy for a transaction or event which has not occurred in the past or
which was not material.
In the case of tangible non-current assets, if a policy of revaluation is adopted for the first time then this is
treated, not as a change of accounting policy under BAS 8, but as a revaluation under BAS 16 Property, Plant
and Equipment (see Chapter 5). The following paragraphs do not therefore apply to a change in policy to
adopt revaluations.
3.2 Changes in accounting policy
A change in accounting policy must be applied retrospectively.
Definition
Retrospective application: Applying a new accounting policy to transactions, other events and
conditions as if that policy had always been applied.
In other words, at the earliest date such transactions or events occurred, the policy is applied from that
date.
Any resulting adjustment should be reported as an adjustment to the opening balance of retained
earnings. Comparative information should be restated unless it is impracticable to do so (see section 6
below).

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This means that all comparative information must be restated as if the new policy had always been in
force, with amounts relating to earlier periods reflected in an adjustment to opening reserves of the
earliest period presented.
The steps needed to make the retrospective adjustment are:
Step 1
Restate the opening balances for the current year, by applying the new policy to the opening balance sheet
(i.e. the previous period's closing balance sheet).
Step 2
Calculate the difference between the figure for capital and reserves in the revised opening balance sheet and
the figure as originally published. This difference is the amount of the adjustment made in the statement of
changes in equity to the reserves brought forward at the start of the current period.
Step 3
Apply the new policy in the current period and to the closing balance sheet.
Step 4
Restate the comparatives for the prior period by applying steps (1) to (3) to the prior period values.
Step 5
Prepare the note explaining the reason for the change and giving other details (see section 3.4 below).
Although BAS 8 requires retrospective adjustment for changes in accounting policy it recognises that there
may be circumstances where it is impracticable to determine the effect in a specific period or on a
cumulative basis. Where this is the case the policy should be applied retrospectively to the earliest period
for which it is practicable to do so.
In the rare circumstance where it is impracticable to restate retrospectively any financial results the
new policy should be applied prospectively. (Impracticality is dealt with in more detail in section 6 below.)
Definition
Prospective application of a change in accounting policy: applying the new accounting policy to
transactions, other events and conditions occurring after the date as at which the policy is changed.
3.3 Adoption of a new BFRS
Where a new BFRS is adopted, BAS 8 requires any transitional provisions in the new BFRS itself to be
followed. If none are given in the BFRS which is being adopted, then the entity should follow the general
principles of BAS 8.
3.4 Disclosure
Certain disclosures are required when a change in accounting policy has a material effect on the current
period or any prior period presented, or when it may have a material effect in subsequent periods.
Nature of the change
Reasons for the change (why more reliable and relevant)
Amount of the adjustment for the current period and for each prior period presented for each line
item
Amount of the adjustment relating to periods prior to those included in the comparative information
The fact that comparative information has been restated or that it is impracticable to do so
An entity should also disclose information relevant to assessing the impact of new BFRS on the financial
statements where these have not yet come into force.

3.5 Borrowing costs
In recent years the IASB has revised a number of accounting standards removing the majority of accounting
policy choices. The only remaining choice is in respect of finance costs on borrowing. Under BAS 23
Borrowing Costs, borrowing costs may be capitalised as part of a qualifying asset in specific circumstances (as
opposed to being expensed in the period in which they are incurred).
BAS 23 per se is not examinable in the Financial Accounting paper but you should be aware of this issue
in the context of accounting policy choices. The following worked example demonstrates the treatment of
the change in accounting policy for borrowing costs.
Worked example: Change in accounting policy
Multi Ltd commenced trading three years ago, on 1 January 20X5. Its draft balance sheet at 31 December
20X7 and its final balance sheets for the two previous years are as follows:
20X7 20X6 20X5
CUm CUm CUm
Non-current assets
Property, plant and equipment 231 230 180
Other 169 120 120
400 350 300
Current assets 800 800 800
1,200 1,150 1,100
Capital 100 100 100
Reserves 450 400 350
550 500 450
Non-current liabilities 200 200 200
Current liabilities 450 450 450
1,200 1,150 1,100
Additional information is available as follows:
1 The profit for each of the three years was CU50m.
2 The movements on property, plant and equipment were as follows:
20X7 20X6 20X5
CUm CUm CUm
Brought forward 230 180 0
Direct cost of additions 80 90 180
Interest capitalised 10 10 20
320 280 200
Depreciation (89) (50) (20)
Carried forward 231 230 180
3 Property, plant and equipment is depreciated at the rate of 10% of cost per annum.
The directors now believe that more relevant information would be provided if interest was not
capitalised, so the decision has been made to change the accounting policy and to recognise all interest
as an expense in the year in which it is incurred.
Prepare the revised balance sheets at 31 December 20X7 and 20X6, together with extracts from the
statement of changes in equity for each of the two years then ended.

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Solution
BALANCE SHEET 20X7 20X6
CUm CUm
Non-current assets
Property, plant and equipment (W3) 200 205
Other 169 120
369 325
Current assets 800 800
1,169 1,125
Capital 100 100
Reserves (per SCE extract below) 419 375
519 475
Non-current liabilities 200 200
Current liabilities 450 450
1,169 1,125
Statement of changes in equity 20X7 20X6
(extracts) CUm CUm
Reserves brought forward –as reported 400 350
Adjustment –to write off capitalised interest brought forward (W1) (25) (18)
As restated 375 332
Profit for the year (W2) 44 43
Reserves carried forward 419 375
WORKINGS
(1) Adjustment re capitalised interest
20X7 20X6 20X5
CUm CUm CUm
Amount capitalised in the year 10 10 20
Depreciation charge (10% 20) (2)
Depreciation charge (10% (20 + 10)) (3)
Depreciation charge (10% (20 + 10 + 10)) (4)
Reserves adjustment/asset write-down 6 7 18
Cumulative 31 25 18
(2) Adjustment to reported profits
20X7 20X6
CUm CUm
Profit for year before adjustment 50 50
Profit adjustment (W1) (6) (7)
Profit for year restated 44 43
(3) PPE restated
20X7 20X6
CUm CUm
As originally stated 231 230
Write-down (7 + 18) (25)
Write-down (6 + 7 + 18) (31)
Restated 200 205

Point to note
The five steps referred to in section 3.2 above have been applied in this example as follows:
Step 1
The opening balance for PPE is revised by recalculating the 20X6 closing balance sheet balance (W3).
Step 2
The difference between the figure for capital and reserves in the revised opening balance sheet and the
figure as originally published is calculated in W1. Note that the cumulative adjustment at the end of 20X6
appears as the adjustment to reserves brought forward at the beginning of 20X7 in the statement of
changes in equity.
Step 3
The new policy is applied in the current period and the closing balance sheet. In W2 20X7 profits are
reduced by CU6m. In W3 PPE is reduced by the cumulative additional depreciation (CU31m).
Step 4
Comparatives are restated.
The closing PPE balance for 20X6 is restated (see W3).
Reserves brought forward are restated for 20X6 in the statement of changes in equity by CU18m.
Profit for 20X6 is restated by CU7m (see W2).
Step 5
Disclosures as described in section 3.4 would be provided.
Section overview
A change in accounting estimates should be applied prospectively.
4.1 Accounting estimates
Definition
Change in accounting estimate: An adjustment of the carrying amount of an asset or a liability or the
amount of the periodic consumption of an asset, that results from the assessment of the present status of,
and expected future benefits and obligations associated with, assets and liabilities. Changes in accounting
estimates result from new information or new developments and, accordingly, are not corrections of
errors.
Estimates arise in relation to business activities because of the uncertainties inherent within them.
Judgements are made based on the latest available, reliable information. The use of such estimates is a
necessary part of the preparation of financial statements and does not undermine their reliability. Here are
some examples of accounting estimates.
A necessary bad debt allowance
Useful lives of depreciable assets
Adjustment for obsolescence of inventory

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4.2 Accounting treatment
The rule here is that the effect of a change in an accounting estimate should be included in the
determination of net profit or loss in:
The period of the change, if the change affects that period only, or
The period of the change and future periods, if the change affects both
Changes may occur in the circumstances which were in force at the time the estimate was calculated, or
perhaps additional information or subsequent developments have come to light.
An example of a change in accounting estimate which affects only the current period is the bad debt
estimate. However, a revision in the life over which an asset is depreciated would affect both the current
and future periods, via the amount of the depreciation expense.
The effect of a change in an accounting estimate should be included in the same income statement
classification as was used previously for the estimate. This rule helps to ensure consistency between the
financial statements of different periods.
The effect of a change in an accounting estimate is to be recognised prospectively.
Definition
Prospective application of recognising the effect of a change in accounting estimate:
Recognising the effect of the change in the accounting estimate in the current and future periods affected by
the change.
4.3 Disclosure
Where a change in an accounting estimate has a material effect in the current period (or which is
expected to have a material effect in subsequent periods) the following should be disclosed.
Nature of the change in accounting estimate
Amount of change (if impracticable to estimate, this fact should be disclosed)
Worked example: Change in accounting estimate
Taking the example of a machine tool with an original cost of CU100,000, an originally estimated useful life
of 10 years and an originally estimated residual value of CUnil, the annual straight line depreciation charge
will be CU10,000 per annum and the carrying amount after three years will be CU70,000. If in the fourth
year it is decided that as a result of changes in market conditions the remaining useful life is only three years
(so a total of six years), then the depreciation charge in that year (and in the next two years) will be the
carrying amount brought forward ÷ the revised remaining useful life, so CU70,000 ÷ 3 = CU23,333. There
is no question of going back to restate the depreciation charge for the past three years.
The effect of the change (in this case an increase in the annual depreciation charge from CU10,000 to
CU23,333) in the current year and the next two years must be disclosed.
4.4 Changes in policy versus changes in estimate
It can be difficult sometimes to distinguish between changes in accounting policies and changes in accounting
estimates.
When there is doubt as to which type of change it is, BAS 8 requires it to be treated as a change in
accounting estimate based upon new information.

Section overview
Prior period errors should be corrected by retrospective restatement.
5.1 Introduction
Errors may be discovered during a current period which relate to a prior period.
If immaterial, these errors can be corrected through net profit or loss for the current period.
Where they are material prior period errors, however, this is not appropriate.
Definition
Prior period errors: Are omissions from, and misstatements in, the entity's financial statements for one
or more prior periods arising from a failure to use, or misuse of, reliable information that:
Was available when financial statements for those periods were authorised for issue.
Could reasonably be expected to have been obtained and taken into account in the preparation and
presentation of those financial statements.
Such errors include the effects of mathematical mistakes, mistakes in applying accounting policies, oversights
or misinterpretations of facts, and fraud.
5.2 Accounting treatment
Prior period errors should be corrected retrospectively.
Definition
Retrospective restatement: Correcting the recognition, measurement and disclosure of amounts of
elements of financial statements as if a prior period error had never occurred.
This involves:
Either restating the comparative amounts for the prior period(s) in which the error occurred,
Or, if the error occurred before the earliest prior period presented, restating the opening balances of
assets, liabilities and equity for the earliest prior period presented
so that the financial statements are presented as if the error had never occurred.
Only where it is impracticable to determine the cumulative effect of an error on prior periods can an
entity correct a prior period error prospectively. (See section 6.)

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5.3 Disclosures
Various disclosures are required:
Nature of the prior period error.
For each prior period, to the extent practicable, the amount of the correction for each financial
statement line item affected.
The amount of the correction at the beginning of the earliest prior period presented.
If retrospective restatement is impracticable for a particular prior period, the circumstances
that led to the existence of that condition and a description of how and from when the error has been
corrected.
Subsequent periods need not repeat these disclosures.
6 Impracticability
Section overview
There may be practical limitations on retrospective application of changes in accounting policy and
prior period errors.
6.1 Issue
As we have already mentioned, in some cases it may be impracticable to make retrospective
adjustments for changes in accounting policies or prior period errors.
Definition
Impracticable: Applying a requirement is impracticable when the entity cannot apply it after making every
reasonable effort to do so. It is impracticable to apply a change in an accounting policy retrospectively or to
make a retrospective restatement to correct an error if one of the following apply.
The effects of the retrospective application or retrospective restatement are not determinable.
The retrospective application or retrospective restatement requires assumptions about what
management's intent would have been in that period.
The retrospective application or retrospective restatement requires significant estimates of amounts
and it is impossible to distinguish objectively information about those estimates that:
– Provides evidence of circumstances that existed on the date(s) at which the transaction, other
event or condition occurred; and
– Would have been available when the financial statements for that prior period were authorised
for issue, from other information.
Where it is impracticable to determine the period-specific or cumulative effects of:
Retrospective application of a changed accounting policy
Prior period errors ranking for retrospective restatement
then no retrospective adjustments are made. 'Impracticable' is defined in the same way as in BAS 1.
It is important not to use hindsight but to identify information for earlier periods which not only reflects the
circumstances at the earlier date but also would have been available at that earlier date. If such information
is not identifiable, then it is impracticable to make retrospective application or restatement.

7 BFRS 5 and discontinued operations
Section overview
The results of discontinued operations should be presented separately on the face of the income
statement.
7.1 The problem
The ability to predict the future performance of an entity is hampered when the financial statements include
activities which as a result of sale or closure will not continue into the future. While figures inclusive of
those activities are a fair measure of past performance, they do not form a good basis for predicting the
future cash flows, earnings-generating capacity and financial position. Separating out data about discontinued
activities benefits users of financial statements, but leads to difficulties in defining such operations and in
deciding when a discontinuance comes about. This problem is addressed by BFRS 5 Non-current Assets Held
for Sale and Discontinued Operations.
7.2 The objectives of BFRS 5 regarding discontinued operations
Part of BFRS 5 is designed to deal with the problem by requiring entities to disclose in the income and cash
flow statements the results of discontinued operations separately from those of continuing operations and
to make certain balance sheet disclosures. This chapter only deals with BFRS 5's definition of discontinued
operations and its disclosure requirements; the other aspects are concerned with measurement and
recognition of profits and losses on non-current assets held for sale and these are covered in Chapter 5.
There are two parts of the Chapter 5 coverage which are relevant to the disclosure rules dealt with in this
chapter:
The key criterion for the classification of a non-current asset as held for sale is that it is highly
probable that it will be finally sold within 12 months of classification.
A non-current asset held for sale is measured at the lower of carrying amount and fair value less
costs to sell. The effect is that if fair value less costs to sell is lower than the carrying amount of the
asset, then the loss is recognised at the time the decision is made to dispose of the asset, not when
the disposal actually takes place.
7.3 Discontinued operations
Definitions
Discontinued operation: A component of an entity that has either been disposed of, or is classified as
held for sale, and
Represents a separate major line of business or geographical area of operations,
Is part of a single co-ordinated plan to dispose of a separate major line of business or geographical
area of operations, or
Is a subsidiary acquired exclusively with a view to resale.
Component of an entity : Operations and cash flows that can be clearly distinguished, operationally and
for financial reporting purposes, from the rest of the entity.

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As already noted, the separation of information about discontinued activities benefits users of financial
statements by providing them with information about continuing operations which they can use as the basis
for predicting the future cash flows, earnings-generating capacity and financial position. Management is
therefore faced with the temptation to classify continuing, but underperforming, operations as discontinued,
so that their performance does not act as a drag on the figures used as a basis for future predictions. This is
why the definition of a discontinued operation is so important, but applying that definition requires difficult
judgements.
Consider the following:
The abrupt cessation of several products within an ongoing line of business: presumably a line of
business must be defined by reference to the requirement in the definition for a component to be
'distinguished operationally and for financial reporting purposes'. But how many products have to be
stopped before the line of business itself is stopped?
Selling a subsidiary whose activities are similar to those of other group companies: how should 'similar'
be defined?
7.4 When does a discontinuance come about?
BFRS 5 does not set out specific criteria for when a discontinuance comes about, despite its importance in
terms of defining the accounting period in which disclosures must first be made. Instead, it relies on the
definition of a discontinued operation, but this comes in two parts; it is a component of the entity which:
Has been disposed of. In this case, the disclosures will first be made in the accounting period in
which the disposal takes place, or
Is held for sale. In this case the disclosures will first be made in the accounting period in which the
decision to dispose of it is made, provided that it is highly probable that it will be sold within 12
months of classification.
If a business decides to discontinue operations and the non-current assets supporting these operations are
to be abandoned (so scrapped or just closed down) rather than sold, the carrying amount of the assets will
not be recovered principally through sale. So these assets cannot be classified as held for sale. As a result,
these operations should not be disclosed as discontinued until the underlying assets actually cease to be
used.
Points to note
Operations supported by assets which become idle because they are temporarily taken out of use may not
be described as discontinued. This includes, for example, assets that are mothballed and may be brought
back into use if market conditions improve.
7.5 Presenting discontinued operations: income statement and cash
flow statement
An entity should disclose a single amount on the face of the income statement comprising the total
of:
The post-tax profit or loss of discontinued operations, and
Any post-tax gain or loss on related assets
An entity should also disclose an analysis of this single amount into
The revenue, expenses and pre-tax profit or loss of discontinued operations
The related income tax expense
Post-tax gain or loss on related assets
This analysis may be presented either:
On the face of the income statement, or
In the notes

If it is presented on the face of the income statement it should be presented in a section identified as
relating to discontinued operations, i.e. separately from continuing operations. (This analysis is not required
where the discontinued operation is a newly acquired subsidiary that has been classified as held for sale.)
The disclosure of discontinued operations adopted in these Learning Materials is in line with Example 11 in
the (non-mandatory) Guidance on Implementing BFRS 5. The main part of the income statement is
described as 'continuing operations', with the single amount in respect of 'discontinued operations' being
brought in just above 'profit/(loss) for the period'.
XYZ LTD –Income statement for the year ended [date]
CUm
Continuing operations
Revenue X
Cost of sales (X)
… …
… …
Share of profits/(losses) of associates X
Profit/(loss) before tax X
Income tax expense (X)
Profit/(loss) for the period from continuing operations X
Discontinued operations
Profit/(loss) for the period from discontinued operations (X)
Profit/(loss) for the period X
The additional information is then included in a note to the income statement.
In the cash flow statement an entity should disclose the net cash flows attributable to the:
Operating
Investing, and
Financing
activities of discontinued operations.
These disclosures may be presented either on the face of the cash flow statement or in the notes.
Points to note
1 The results and cash
consistent with the continuing/discontinued classification in the current period. As an example,
operations discontinued in the year ended 31 December 20X7 will have been presented as continuing
in the 20X6 financial statements but will be re-presented as discontinued in the 20X6 comparative
figures included in the 20X7 financial statements.
2 Some narrative descriptions are also required. Although this part of the BFRS does not specifically
mention discontinued operations, it includes them through its requirement for these narratives in
respect of non-current assets disposed of or classified as held for sale; many discontinued operations
will include such non-current assets.
3 If in the current period there are adjustments to be made to operations discontinued in prior periods,
their effect must be shown separately from the figures for operations discontinued in the current
period. Examples are given of the sort of adjustments which may have to be made.
4 If a part of the business is discontinued but it does not meet the criteria for a discontinued operation
(i.e. it cannot be clearly distinguished), then its results must be included in those from continuing
operations.
7.6 Presenting discontinued operations: balance sheet
If the operation has finally been discontinued and all its assets have been disposed of, there will be
nothing relating to the discontinued operation still in the balance sheet. So there will be no
balance sheet disclosures.

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If non-current assets held for sale have not been finally disposed of, they must be shown in the balance
sheet separately from all other assets. In these circumstances there will be a separate line item
immediately below the sub-total for current assets for the non-current assets held for sale. If an
operation is being discontinued, then any non-current assets related to it will now be held with a view to
disposal and it will be inappropriate for them to be shown as non-current assets.
The previous classification is retained for non-current assets being abandoned because, by definition, they
are not held for sale.
Point to note: any non-current assets now held for sale are not reclassified as held for sale in the balance
sheets for any prior periods shown as comparative figures.
7.7 Link with other BASs
As has already been noted, the part of BFRS 5 dealt with in this chapter is concerned purely with disclosure,
not about recognition or measurement. But a decision to discontinue an operation would normally require
management to immediately consider the recognition and measurement requirements of:
BAS 36 Impairment of Assets (dealt with in Chapter 5) which may require an immediate reduction in
the carrying amount of non-current assets.
BAS 37 Provisions, Contingent Liabilities and Contingent Assets (dealt with in Chapter 9) which may require
the recognition of provisions for reorganisation and restructuring costs.
It is also the case that, even if a component being disposed of or abandoned has to be treated as a
continuing operation (because it does not meet all of the conditions for being classified as a discontinued
operation), management should still consider whether the requirements of BAS 36 and BAS 37, together
with that of BAS 1 (dealt with in Chapter 3) to make separate disclosure of 'exceptional' items, should be
applied to that continuing operation.
Worked example: Business closure
On 20 October 20X7 the directors of a parent company made a public announcement of plans to close a
steel works. The closure means that the group will no longer carry out this type of operation, which until
recently has represented about 10% of its total revenue. The works will be gradually shut down over a
period of several months, with complete closure expected in July 20X8. At 31 December output had been
significantly reduced and some redundancies had already taken place. The cash flows, revenues and
expenses relating to the steel works can be clearly distinguished from those of the subsidiary’s other
operations.
How should the closure be treated in the financial statements for the year ended 31 December 20X7?
Solution
Because the steel works is being closed, rather than sold, it cannot be classified as ‘held for sale’. In addition,
the steel works is not a discontinued operation. Although at 31 December 20X7 the group was firmly
committed to the closure, this has not yet taken place and therefore the steel works must be included in
continuing operations. Information about the planned closure should be disclosed in the notes to the
financial statements.
Interactive question 1: Grey Ltd [Difficulty level: Exam standard]
The income statement for Grey Ltd for the year ended 31 December 20X7 is as follows:
CU
Revenue 300,000
Cost of sales (100,000)
Gross profit 200,000
Distribution costs (40,000)
Administrative expenses (90,000)

Profit before tax 70,000
Income tax expense (21,000)
Profit for the period 49,000
On 30 September 20X7 the company classified a manufacturing division as held for sale. It satisfies the
definition of a discontinued operation in accordance with BFRS 5.
The results of the division are as follows:
CU
Revenue 32,000
Cost of sales (15,000)
Distribution costs (12,000)
Administrative expenses (10,000)
These balances have been included in the income statement of Grey Ltd above.
Requirement
Show how the discontinued operation would be treated in the income statement.
Fill in the proforma below.
CU
Revenue
Cost of sales
Gross profit
Distribution costs
Administrative expenses
Profit before tax
Income tax expense
Profit for the period from continuing operations
Loss for the period from discontinued operations
Profit for the period
WORKING
Continuing Discontinued
operations operations Total
CU CU CU
Revenue
Cost of sales
Gross profit
Distribution costs
Administrative expenses
Profit /(loss) from operations
Income tax
Net profit/(loss) for period
See Answer at the end of this chapter.
8 BAS 32 Financial Instruments: Presentation
Section overview
Financial instruments should be classified as financial assets, financial liabilities or equity.
Classification should be based on the substance of the contractual arrangement.

4
8.1 The issue
If you read the financial press you will probably be aware of the rapid international expansion in the use of
financial instruments. These vary from straightforward, traditional instruments, e.g. bonds, through to
various forms of so-called derivative instruments. As these instruments have been developed over time
difficulties have arisen regarding their presentation and measurement.
8.2 Elements of financial statements
BFRS Framework defines the elements of financial statements which relate to the measurement of financial
position as:
Assets, which are resources controlled by the entity as a result of past events and from which future
economic benefits are expected to flow to the entity.
Liabilities, which are present obligations of the entity arising from past events, the settlement of
which is expected to lead to the outflow from the entity of resources embodying economic benefits.
Equity, which is the residual of assets less liabilities.
The key to applying these definitions is being able to distinguish one from the other in practical terms. In
some cases, this will be straightforward, so for example, it is easy to see that a bank loan would be a
liability. However, in more complex cases (which will be covered in Financial Reporting) making this
distinction may be more difficult.
8.3 BAS 32 Financial Instruments: Presentation
BAS 32 Presentation is designed to address the kind of problem mentioned above.
Definition
Financial instrument: Any contract that gives rise to both a financial asset of one entity and a financial
liability or equity instrument of another entity.
Financial instruments should be classified as either:
Financial assets
Financial liabilities, or
Equity
Definition
Financial asset: Any asset that is:
Cash
An equity instrument of another entity
A contractual right to receive cash or another financial asset from another entity; or to exchange
financial instruments with another entity under conditions that are potentially favourable to the entity,
or
A contract that will or may be settled in the entity's own equity instruments and is:
– A non-derivative for which the entity is or may be obliged to receive a variable number of the
entity's own equity instruments, or
– A derivative that will or may be settled other than by the exchange of a fixed amount of cash or
another financial asset for a fixed number of the entity's own equity instruments.

Financial liability: Any liability that is:
A contractual obligation:
– To deliver cash or another financial asset to another entity, or
– To exchange financial instruments with another entity under conditions that are potentially
unfavourable, or
A contract that will or may be settled in the entity's own equity instruments and is:
– A non-derivative for which the entity is or may be obliged to deliver a variable number of the
entity's own equity instruments, or
– A derivative that will or may be settled other than by the exchange of a fixed amount of cash or
another financial asset for a fixed number of the entity's own equity instruments.
Equity instrument: Any contract that evidences a residual interest in the assets of an entity after
deducting all of its liabilities.
We should clarify some points arising from these definitions. Firstly, one or two terms above should be
themselves defined.
A 'contract' need not be in writing, but it must comprise an agreement that has 'clear economic
consequences' and which the parties to it cannot avoid, usually because the agreement is enforceable
in law.
An 'entity' here could be an individual, partnership, incorporated body or government agency.
The definitions of financial assets and financial liabilities may seem rather circular, referring as they do
to the terms financial asset and financial instrument. The point is that there may be a chain of contractual
rights and obligations, but it will lead ultimately to the receipt or payment of cash or the acquisition or issue
of an equity instrument.
Examples of financial assets include:
Trade receivables
Options
Shares (when held as an investment)
Examples of financial liabilities include:
Trade payables
Debenture loans payable
Redeemable preference (non-equity) shares
Forward contracts standing at a loss
As we have already noted, financial instruments include both of the following.
Primary instruments: e.g. receivables, payables and equity securities.
Derivative instruments: e.g. financial options, futures and forwards, interest rate swaps and
currency swaps.
BAS 32 makes it clear that the following items are not financial instruments.
Physical assets, e.g. inventories, property, plant and equipment, leased assets and intangible assets
(patents, trademarks etc).
Prepaid expenses, deferred revenue and most warranty obligations.
Liabilities or assets that are not contractual in nature.
Contractual rights/obligations that do not involve transfer of a financial asset, e.g. commodity
futures contracts.

4
Worked example: Definitions
List the reasons why physical assets and prepaid expenses do not qualify as financial instruments.
Solution
Refer to the definitions of financial assets and liabilities given above.
(a) Physical assets: control of these creates an opportunity to generate an inflow of cash or other
assets, but it does not give rise to a present right to receive cash or other financial assets.
(b) Prepaid expenses, etc: the future economic benefit is the receipt of goods/services rather than the
right to receive cash or other financial assets.
8.4 Liabilities and equity
Financial instruments should be presented according to their substance, not merely their legal form.
This classification is made at the time the instrument is first issued and is not revised subsequently.
The classification of a financial instrument as a liability or as equity depends on the following:
The substance of the contractual arrangement on initial recognition
The definitions of a financial liability and an equity instrument
How should a financial liability be distinguished from an equity instrument? The critical feature of a liability is
an obligation to transfer economic benefit. Therefore, the financial instrument is a financial liability if there
is:
A contractual obligation on the issuer to deliver cash/another financial asset, or
A contractual right for the holder to receive cash/another financial asset.
Where this feature is not met, then the financial instrument is an equity instrument.
Worked example: Classification of financial instruments
Alpha Ltd issues 100,000 CU1 ordinary shares.
These would be classified as an equity instrument:
The shareholders own an equity instrument because although they own a residual interest in the
company, they have no contractual right to demand any of it to be delivered to them, e.g. by way of
dividend.
The company has issued an equity instrument because it has no contractual obligation to distribute
that residual interest.
8.5 Preference shares
Preference shares provide the holder with the right to receive:
An annual dividend (usually a predetermined and unchanging amount).
A fixed amount on the ultimate liquidation of the company or at an earlier date if the shares are
redeemable.
BAS 32 treats most preference shares as liabilities. This is because they are, in substance, loans.
Fixed annual dividend = 'interest'
Fixed amount on redemption/liquidation = 'repayment of loan'

In practical terms preference shares are only treated as part of equity when:
They will never be redeemed, or
The redemption is solely at the option of the issuer and the terms are such that it is very unlikely at
the time of issue that the issuer will ever decide on redemption.
For the purposes of your exam, if you are told that preference shares are irredeemable you should treat
them as equity.
8.6 Interest and dividends
The costs of servicing the financing of a company must be treated consistently with the way that the
underlying instrument has been treated:
Dividends on ordinary shares and irredeemable preference shares will be shown as an appropriation
of profit (in the statement of changes in equity)
The cost of servicing loans will be shown as interest payable (in the income statement)
Dividends on redeemable preference shares will be shown alongside interest payable as part of the
finance cost (in the income statement).
8.7 Offsetting a financial asset and a financial liability
It may be the case that one entity both owes money to and is due money from another entity. A frequently
occurring example of this is where a company has several accounts with a single bank, some of which are in
credit and some overdrawn. The presentation issue is whether these amounts should be shown separately
or whether they should be netted off against each other and a single figure for the resulting net asset (or
liability) shown.
BAS 32 looks to see whether there is a legally enforceable right to make the set off. But it then goes
further, by taking account of the entity’s intentions. If there is a legal right to make a set off and the entity
intends to settle the amounts on a net basis, then the set off must be made.
On this basis an entity with credit and overdrawn bank balances would not set them off against each other
(even if it had the legal right to do so) because in the normal course of business it is keeping these accounts
separate, so it cannot claim that it 'intends' to settle on a net basis.
8.8 Other points
Instead of cancelling any of its own shares it may have bought back, an entity may hold them for
reissue. In this case they are described as ‘treasury shares’and are deducted from equity, not shown
amongst the entity’s assets.
Transaction costs associated with the issue of equity are to be deducted from equity, but only where
these costs are incremental. So the fixed cost of in-house legal and/or finance teams cannot be treated
in this way, but should be recognised in profit or loss as incurred.
8.9 Measurement of financial instruments
Measurement of financial instruments is dealt with by BAS 39 Financial Instruments: Recognition and
Measurement.
In simple terms, financial instruments are initially measured at the fair value of the consideration given or
received (i.e. cost) plus (in most cases) transaction costs that are directly attributable to the
acquisition of the financial instrument.
The detail of this accounting standard is outside the scope of the Financial Accounting syllabus.

4
Summary and Self-test
Summary
BAS 8 BFRS 5 BAS 32

Self-test
Answer the following questions
1 During the year to 30 September 20X6, the following events occurred in relation to Pipe Ltd.
(1) A claim for tax relief, submitted in 20X3, was rejected by the General Commissioners of HMRC.
No appeal will be made. The resulting liability of CU15,000 was not provided at 30 September
20X5, since the company had expected the claim to succeed.
(2) The company had decided to capitalise borrowing costs in the cost of its non-current assets for
the first time in 20X6. The net effect at 30 September 20X5 would have been CU5,000.
(3) A cut-off error in respect of inventories at 30 September 20X5 was discovered which would
have reduced the carrying amount of inventories by CU24,000. This error is material but not
fundamental.
(4) Non-current assets which had been written down to their estimated realisable value of
CU17,000 at 30 September 20X5 were sold for CU7,000.
How much should be accounted for retrospectively as an adjustment to retained earnings brought
forward at 1 October 20X5?
A CU10,000 (decrease)
B CU19,000 (decrease)
C CU29,000 (decrease)
D CU34,000 (decrease)
2 When considering BFRS 5 Non-current Assets Held for Sale and Discontinued Operations, which of the
following statements is true?
(1) A discontinued operation must have been disposed of by the balance sheet date.
(2) A discontinued operation must be a separate major line of business or geographical area of
operation.
(3) A discontinued operation must be clearly distinguished operationally and for financial reporting
purposes.
A (1), (2) and (3)
B (1) and (2) only
C (2) and (3) only
D (1) and (3) only
3 During the financial year Alphabet Ltd carried out a reorganisation as follows.
Division X, a Dhaka division whose operations are being terminated and transferred to another Dhaka
division producing the same product.
Division Y, the sole operator in Asia whose business is being sold externally to the group.
Activity W, (part of Division Z) whose operations have been closed down. W's results have not been
reported separately.
Which of the following could be a discontinued operation according to BFRS 5 Non-current Assets Held
for Sale and Discontinued Operations?
A Division X only
B Division Y only
C Division X and Division Y only
D Division X, Division Y and Activity W

4
4 When an entity decides to classify an operation as discontinued in accordance with BFRS 5 Non-current
Assets Held for Sale and Discontinued Operations, what factors must be considered?
(1) Whether there is a need for any restructuring provisions.
(2) Whether there is a need for an impairment review of assets being disposed of.
(3) The effect of termination on employees such as redundancy and pension costs.
(4) The effect of disposal on tangible non-current assets.
A All factors must be considered
B Only factors (1) and (2) must be considered
C Only factors (2) and (4) must be considered
D Only factors (1), (2) and (4) must be considered
5 During the year to 30 April 20X9 Grant Ltd carried out a major reorganisation of its activities as
follows.
Maynard was closed down on 1 January 20X9. Maynard was the only manufacturing division of the
company, and as a result of the closure Grant's only activity will be the retail of artists equipment.
On 30 March 20X9 it was decided to sell Lytton, the only division that operated in Europe. The
company were confident of a sale within the year. The sale actually took place on 15 July 20X9.
The activities carried on by Hobhouse were terminated during the period. Hobhouse was one of a
number of smaller divisions which operated from the same location as the main headquarters of
Grant. All these divisions use the same central accounting system and operating costs are allocated
between them for the purpose of the management accounts.
The accounts for the year ended 30 April 20X9 were approved on 7 July 20X9.
Which of these divisions should be classified as discontinued operations in accordance with BFRS 5
Non-current Assets Held for Sale and Discontinued Operations in the financial statements of Grant Ltd for
the year ended 30 April 20X9?
A Maynard only
B Maynard and Lytton only
C Maynard, Lytton and Hobhouse
D None of them
6 Under the definitions in BAS 32 Financial Instruments: Presentation, which of the following is not a
financial instrument?
A Inventories
B Trade receivables
C Redeemable preference shares
D Forward contracts
7 A company has CU500,000 4% redeemable preference shares in issue. According to BAS 32 Financial
Instruments: Presentation, where will the dividend charge for the year be shown in the income
statement?
A Dividends received
B Interest received
C Dividends paid
D Interest paid
8 According to BAS 32 Financial Instruments: Presentation, what is the correct treatment for dividends on
redeemable preference shares and dividends on ordinary shares in financial statements?
A All dividends are recognised in the income statement as an expense
B All paid dividends are recognised in the income statement as an expense and no proposed
dividends are recognised
C Preference dividends and equity dividends paid are recognised in the statement of changes in
equity
D Preference dividends are recognised in the income statement and equity dividends paid are
recognised in the statement of changes in equity

9 Oxford Ltd has CU6m of 6% redeemable preference shares in issue. They are redeemable on 31
December 20X5. In accordance with BAS 32 Financial Instruments: Presentation where are these
disclosed on the balance sheet in the year ended 31 December 20X3?
A Non-current liabilities
B Current liabilities
C Equity
D Non-current assets
10 WESTERN ENTERPRISES LTD
Western Enterprises Ltd wholesales and distributes toys and models and provides distribution services
to other organisations. The following balances have been extracted from its books of account of at 31
December 20X3.
CU'000
Ordinary shares 800
5% redeemable preference shares 200
Share premium account 350
Revaluation reserve 400
Retained earnings at 1 January 20X3 2,000
Revenue 11,899
Purchases 8,935
Inventories at 1 January 20X3 974
Staff costs –distribution 270
Staff costs –administration 352
Depreciation charge for the year
Freehold land and buildings 30
Distribution equipment 116
Other plant and equipment 160
General expenses 432
Interest receivable 41
Interest payable 35
Taxation –charge for the year 336
Paid dividends
Ordinary shares –final regarding 20X2 60
Ordinary shares –interim regarding 20X3 30
5% redeemable preference shares –for 20X3 10
Patent rights 200
Freehold land and buildings 1,500
Distribution equipment –cost 800
Other plant and equipment –cost 1,400
Accumulated depreciation at 31 December 20X3
Freehold land and buildings 30
Other plant and equipment 250
Trade receivables 1,600
Trade payables 850
Cash and cash equivalents 300
Tax liability 400
Additional information
(1) Included in revenue are invoices totalling CU120,000 in relation to distribution services
rendered under a contract to a customer who is very unhappy with the quality of the services
provided. The overall outcome of the contract is uncertain and management believes that of the
CU90,000 costs incurred to date under the contract, probably only CU65,000 will be reimbursed
by this customer.
(2) The patent was acquired during the year. Amortisation of CU20,000 should be charged to
administrative expenses.

4
(3) Inventories at 31 December 20X3 were valued at CU1,304,000.
(4) Costs not specifically attributable to one of the income statement expense headings should be
split 50:50 between distribution costs and administrative expenses.
(5) The freehold land and buildings were revalued on 1 January 20X3 and the surplus of CU400,000
over its previous carrying amount of CU1,100,000 (cost CU1,200,000 and accumulated
depreciation CU100,000) has been recognised in the revaluation reserve. The depreciation
charge for the year increased by CU8,000 as a result of the revaluation.
(6) General expenses include a material bad debt write off of CU100,000.
(7) A final ordinary share dividend for 20X3 of CU50,000 was proposed in May 20X4, payable on 28
June 20X4.
(8) CU450,000 cash was received during the year as a result of a rights issue of ordinary shares. The
nominal value of the shares issued was CU100,000.
(9) On 1 June 20X3 the company made the decision to sell its loss-making soft toy division as a
result of severe competition from the Far East. The company is confident that the closure will be
completed by 30 April 20X4. The division’s operations represent in 20X3 10% of revenue (after
all adjustments), 15% of cost of sales, 10% of distribution costs and 20% of administrative
expenses. No balance sheet disclosures are necessary.
Requirement
Prepare Western Enterprises Ltd’s income statement and statement of changes in equity for the year
to 31 December 20X3, a balance sheet at that date and movements schedules and notes in accordance
with the requirements of BFRS, to the extent the information is available. (20 marks)
11 WOODSEATS LTD
There are issues about the presentation of financial instruments in the balance sheet of an entity in
relation to their classification as liabilities and equity and to the related interest, dividends, losses and
gains.
The objective of BAS 32 Financial Instruments: Presentation is to address this problem by establishing
principles for presenting financial instruments as liabilities or equity and for offsetting financial assets
and financial liabilities.
On 1 January 20X3 Woodseats Ltd had only ordinary shares in issue. During the year ended 31
December 20X3 Woodseats Ltd entered into the following financing transactions.
(1) On 1 January 20X3 Woodseats Ltd issued 20 million 8% CU1 preference shares at par. The
preference shares are redeemable at par on 30 June 20X8. The appropriate dividend in respect of
these shares was paid on 31 December 20X3.
(2) On 30 June 20X3 Woodseats Ltd issued 10 million 12% CU1 irredeemable preference shares at
par. The appropriate dividend in respect of these shares was paid on 31 December 20X3.
On 31 December 20X3 Woodseats Ltd decided to change its accounting policy in respect of the
capitalisation of interest. Previously, Woodseats Ltd had capitalised interest within property, plant and
equipment and amortised those costs. It has now decided to write off such costs to cost of sales as
incurred. The net book value of such interest included in the draft balance sheet was as follows.
At 1 January 20X3 CUm
Costs incurred 4.5
Amortisation charge 2.0
At 31 December 20X3 (0.5)
6.0
The draft profit for 20X3, before adjusting for capitalised interest, was CU15 million. Retained
earnings at 1 January 20X3 were CU75 million.

Requirements
(a) Describe the concept of 'substance over form' and its application to the presentation of financial
liabilities under BAS 32 Financial Instruments: Presentation. (4 marks)
(b) Prepare extracts from the financial statements of Woodseats Ltd for the year ended 31
December 20X3 to the extent the information is available, showing how the above would be
reflected in those financial statements.
Notes to the accounts are not required. Ignore taxation. (8 marks)
(12 marks)
Now, go back to the Learning Objectives in the Introduction. If you are satisfied you have achieved these
objectives, please tick them off.

4
Technical reference
Point to note: The following sets out the examinability of the standards covered in this chapter.
BAS 8 All examinable
BFRS 5 References to disposal groups and implementation guidance (except
11 and 12) are not examinable
BAS 32 Only paragraphs 2, 4, 8-11, 13-18, 35-46, Appendix paragraphs AG1-
AG12 and AG25-AG26 are examinable.
The paragraphs listed below are the key references you should be familiar with.
Definition BAS 8 (5)
Developed by reference to the relevant Standard/Interpretation where this is
applicable
BAS 8 (7)
Otherwise judgement applied BAS 8 (10)
Selection and application should be consistent BAS 8 (13)
2 Change in accounting policies
Only allowed if: BAS 8 (14)
– Required by a Standard/Interpretation, or
– Results in relevant and more reliable information
Changes should be applied: BAS 8 (19-22)
– In accordance with transitional provisions, or
– Retrospectively if there are no transitional provisions or the change is
voluntary
Retrospective application is applying a new accounting policy as if that policy had
always been applied
BAS 8 (5)
If impracticable to determine the period specific effects: BAS 8 (23-27)
– Apply the new accounting policy from the earliest period for which
retrospective application is practicable
– Disclose this fact
Changes relating to assets, liabilities or equity are adjusted in the period of change BAS 8 (37)
All other changes should be applied prospectively: BAS 8 (36)
– In the period of change
– In the period of change and future periods if both are affected
Disclosure: BAS 8 (39)
– Nature of change
– Amount

Correct retrospectively in the first set of financial statements authorised for issue
after their discovery
BAS 8 (42)
Disclose BAS 8 (49)
– Nature of the prior period error
– Amount of the correction for each prior period presented
– Amount of the correction at the beginning of the earliest period presented
If impracticable to determine the period-specific effects or the cumulative effect of
the error:
BAS 8 (49)
– Correct the error from the earliest period/date practicable
– Disclose this fact
5 Discontinued operations
Definition BFRS 5 (31-32)
Disclosures on the face of the income statement: BFRS 5 (33(a))
– A single amount comprising the total of:
The post-tax profit or loss of discontinued operations, and
The post-tax gain or loss recognised on related assets
Disclosures on the face or in the notes: BFRS 5 (33(b) (c))
– An analysis of the single amount on the face
Comparative figures must be restated BFRS 5 (34)
Narrative disclosures are also required BFRS 5 (41)
If part of the business is discontinued but it does not meet the criteria then its
results must be included in those from continuing operations
BFRS 5 (37)
6 Financial instruments
Financial instruments should be classified as: BAS 32 (11)
– Financial assets
– Financial liabilities
– Equity
Classification should take account of the substance of the instrument BAS 32 (15)
The critical feature of a liability is an obligation to transfer economic benefit BAS 32 (17)
Where there is no contractual obligation to deliver cash or another asset the
instrument is an equity instrument
BAS 32 (16(a))
A preference share that: BAS 32 (16(a))
– Provides for mandatory redemption by the issuer, or
– Gives the holder the right to require the issuer to redeem the instrument
is a financial liability

4
A preference share that:
– Is irredeemable, or
– Is redeemable but redemption is solely at the option of the issuer and is
unlikely to take place
is an equity instrument
Interest and dividends
– These must be treated consistently with the way that the underlying
instrument has been treated
Offsetting a financial asset and a financial liability BAS 32 (42)
– set off must be made where there is a legal right to set off and the entity
intends to settle on a net basis
Other issues
– Incremental transaction costs are deducted from equity BAS 32 (37)
7 Measurement of financial instruments
Financial instruments are initially measured at fair value

Answers to Self-test
1 B Under BFRS items (1) and (4) arise from normal estimation errors and are recognised in the
current accounting period. Item (2) results from a change of accounting policy and increases
retained earnings brought forward by CU5,000. Item (3) results from an error which reduces
retained earnings brought forward by CU24,000. There is a net reduction of CU19,000.
2 C In order to be classified as discontinued, a component must either have been disposed of or be
held for sale (provided that it is highly probable that it will be sold within 12 months of
classification (BFRS 5 paragraph 8)).
3 B Division X is not a discontinued operation as a separate line of business is not being terminated –
production is shifting from one division to another.
Division Y could be a discontinued operation as a geographical area of operations is being sold.
Activity W is not discontinued, as it cannot be separately distinguished for financial reporting
purposes.
4 A The effect of the discontinuance can be far reaching and may trigger reviews required by other
standards.
5 B Maynard amounts to the withdrawal from a particular line of business. Lytton amounts to the
withdrawal from a geographical area of operation. The date of sale is irrelevant.
6 A Per BAS 32 paragraph 11
7 D The cost of servicing the financing company are treated consistently with the way the underlying
instrument has been treated. Per BAS 32 paragraph 36.
8 D Equity dividends paid are recognised in the statement of changes in equity. Equity dividends
proposed after the year-end are not a liability at the balance sheet date so are not recognised.
Dividends on redeemable preference shares are recognised in the income statement as a finance
cost.
9 A Redeemable preference shares are treated as a financial liability, not as part of equity. They are
redeemable more than 12 months after the balance sheet date.
10 WESTERN ENTERPRISES LTD
Income statement for the year ended 31 December 20X3
CU'000
Revenue (W3) 10,660
Cost of sales (W3) (7,314)
Gross profit 3,346
Distribution costs (W3) (627)
Administrative expenses (W3) (546)
Profit from operations 2,173
Finance cost (35 + 10) (45)
Investment income 41
Income tax (336)
Profit for the period from continuing operations 1,833
Loss for the period from discontinued operations (W3) (314)

4
Statement of changes in equity for the year ended 31 December 20X3
Ordinary
share Share Revaluation Retained
capital premium reserve earnings Total
CU'000 CU000 CU000 CU000 CU000
Recognised directly in equity
Revaluation of
non-current assets – – 400 – 400
Transfer regarding
depreciation on revaluation – – (8) 8 –
Total recognised directly in equity – – 392 8 400
Profit for the period – – – 1,519 1,519
Total recognised income and
expenditure for the period – – 392 1,527 1,919
Issue of shares 100 350 – – 450
20X2 final dividend – – – (60) (60)
20X3 interim dividend – – – (30) (30)
100 350 392 1,437 2,279
Balance brought forward 700 – – 2,000 2,700
Balance carried forward 800 350 392 3,437 4,979
Notes
(1) The profit from operations is arrived at after charging
CU'000
Depreciation (30 + 116 + 160) 306
Amortisation of intangibles 20
Employee benefits (270 + 352) 622
Exceptional bad debt 100
(2) A final ordinary share dividend for 20X3 of CU50,000 is proposed for payment on 28 June 20X4.
(3) On 1 June 20X3 the company classified its soft toy division as held for sale. The division had been
loss-making for some time due to severe competition from the Far East. It is expected that the
closure will be complete by 30 April 20X4.
Amounts in CU000 attributable to this division in 20X3 were: revenue CU1,184, expenses
CU1,498 and pre-tax loss CU314.
Balance sheet as at 31 December 20X3
CU'000 CU'000
ASSETS
Non-current assets
Property, plant and equipment (see note) 3,100
Intangibles (see note) 180
3,280
Current assets
Inventories 1,304
Trade and other receivables (1,600 –55 (W1)) 1,545
Cash and cash equivalents 300
3,149
Total assets 6,429

CU000 CU000
EQUITY AND LIABILITIES
Capital and reserves
Ordinary share capital 800
Share premium 350
Revaluation reserve 392
Retained earnings 3,437
Equity 4,979
Non-current liabilities
Preference share capital 200
Current liabilities
Trade and other payables 850
Taxation 400
1,250
Total equity and liabilities 6,429
PROPERTY, PLANT AND EQUIPMENT
Other plant
Freehold land Distribution and
and buildings equipment equipment Total
CU'000 CU'000 CU'000 CU'000
Cost or valuation
At 1 January 20X3 1,200 800 1,400 3,400
Revaluation 300 – – 300
At 31 December 20X3 1,500 800 1,400 3,700
Depreciation
At 1 January 20X3 100 204 90 394
Revaluation adjustment (100) – – (100)
Charge for the year 30 116 160 306
At 31 December 20X3 30 320 250 600
Carrying amount
At 31 December 20X3 1,470 480 1,150 3,100
At 1 January 20X3 1,100 596 1,310 3,006
CU'000
INTANGIBLES
Cost at 31 December 20X3 200
Amortisation (20)
Carrying amount at 31 December 20X3 180
This patent was acquired during the year
WORKINGS
(1) Revenue and trade receivables
CU'000 CU'000
Per list of balances 11,899
Adjustment regarding contract under dispute
Included in revenue 120
Costs recoverable (65)
Adjustments to revenue and trade receivables (55)
11,844

4
(2) Analysis of expenses
Cost of Distribution Administrative
sales costs expenses
CU'000 CU'000 CU'000
Opening inventories 974
Purchases 8,935
Staff costs 270 352
Depreciation
Land and buildings 15 15
Other PPE 80 80
General expenses 216 216
Amortisation of patent 20
Closing inventories (1,304)
8,605 697 683
(3) Continuing/discontinued analysis
CU'000 CU'000 CU'000
Revenue (W1 –90:10) 10,660 1,184 11,844
Cost of sales (W2 –85:15) (7,314) (1,291) (8,605)
Gross profit 3,346 (107) 3,239
Distribution costs (W2 –90:10) (627) (70) (697)
Administrative expenses (W2 –80:20) (546) (137) (683)
Profit/(loss) from operations 2,173 (314) 1,859
Finance cost (35 + 10) (45) – (45)
Investment income 41 – 41
Profit/(loss) before tax 2,169 (314) 1,855
Income tax (336) – (336)
Net profit/(loss) for the period 1,833 (314) 1,519
11 WOODSEATS LTD
(a) Substance over form and the presentation of financial liabilities under BAS 32
Financial Instruments: Presentation
Under BFRS Framework for the Preparation and Presentation of Financial Statements, if information is
to faithfully represent transactions, it is necessary for transactions to be presented in accordance
with their substance and economic reality.
The substance is not always consistent with the legal form of a transaction. This is often the case
when an arrangement involves a number of linked transactions or components.
BAS 32 uses the substance of a financial liability rather than its legal form to determine the
balance sheet classification. Some financial instruments take the legal form of equity but are
liabilities in substance as they include contractual obligations to transfer economic benefits to the
holder. This approach is consistent with the definition of a liability in BFRS Framework and such
financial liabilities are classified in liabilities and not equity.
More complex financial instruments may combine features of both equity instruments and
financial liabilities. BAS 32 looks at the substance of the components of the instrument and
classifies them separately.

(b) Financial statement extracts
Balance sheet as at 31 December 20X3
CUm
EQUITY AND LIABILITIES
Capital and reserves
Preference share capital (irredeemable) 10
Non-current liabilities
Preference share capital (redeemable) 20
Income statement for the year ended 31 December 20X3
CUm
Cost of sales (2.0)
Finance cost (20m × 8%) (1.6)
Statement of changes in equity for the year ended 31 December 20X3
Preference
share
Attributable to the equity holders capital
of Woodseats Ltd (irredeemable) Retained earnings
CUm CUm CUm
Profit for the period (15 + 0.5 –2) – 13.5
Total recognised income and expense for – 13.5
the period
Issue of share capital 10.0 –
Final dividends on irredeemable – (0.6)
preference shares (10 × 12% × 6/12)
10.0 12.9
Balance brought forward –as reported – 75.0
Adjustment to write off capitalised
interest brought forward (4.5)
As restated 70.5
Balance carried forward 10.0 83.4

4
Answers to Interactive question
Answer to Interactive question 1
CU
Revenue (300 –32) 268,000
Cost of sales (100 –15) (85,000)
Gross profit 183,000
Distribution costs (40 –12) (28,000)
Administrative expenses (90 –10) (80,000)
Income tax expense (21,000)
Profit for the period from continuing operations 54,000
Loss for the period from discontinued operations (32 –15 –12 –10) (5,000)
WORKING
CU CU CU
Revenue 268,000 32,000 300,000
Cost of sales (85,000) (15,000) (100,000)
Gross profit 183,000 17,000 200,000
Distribution costs (28,000) (12,000) (40,000)
Administrative expenses (80,000) (10,000) (90,000)
Profit /(loss) before tax 75,000 (5,000) 70,000
Income tax (21,000) – (21,000)
Net profit/(loss) for period 54,000 (5,000) 49,000

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